Why You Need An Innovation Portfolio

As the financial markets crashed, CNBC's Erin Burnett and the late Mark Haines pressed me during Squawk Box to name a sector that would benefit immediately from focusing on innovation.

Financial services, I responded without hesitation.

Since the interview, the world has seen a plethora of new financial services and insurance businesses, models, products and services all fueled by the democratization of capital and information.

What's perhaps most interesting about the re-energized sector is that it has used a staple of financial planning to get dramatically better.

Employed correctly, it will impact the future of your company with terrific results as well.

I'll explain.

When it comes to how you divvy up your personal investments, you have always been told that they should be spread among asset classes (stocks, bonds and cash) and then diversify further within the classes themselves. For example, you might hold stocks in both foreign companies and domestic ones, enterprises with large and small market capitalization, retailers and high-tech companies.

The idea is to capture all the potential gains out there—the more bets you place, the greater the chances you have of being right—while minimizing risk.

Like many of the leading innovators today, you could and should use exactly the same "portfolio" approach when it comes to innovation.

The Four Classes Of Innovation

So how would you divvy up your innovation portfolio? You have four choices.

I will list them and characterize what is good, bad and ugly about each.

1. Evolutionary Innovation. (It is technically easy for us to do and we know our customer wants it.)

Included here are changes to pricing, simple line extensions and making small incremental changes to existing products and services.

The Good: Your customers and partners expect you to be doing this all the time. It shows you are listening and care.

The Bad: This is like your money and market fund; there is very little margin in this quadrant and your competitors are likely investing in the same types of ideas.

The Ugly: In highly conservative organizations, this quadrant represents the entire innovation strategy and that is eventually fatal: no margin, no imagination, no future.

This portion of your innovation budget is used for making a distinction between your products and those of your competitors. Digital currency has been talked about and has existed for years, and now Apple has just announced it has integrated it into its phones.

The Good: Do this right and you create a culture that knows how to figure out challenges—resulting in higher margins and more engaged customers.

The Bad: Often, conservative companies will over-test and diminish new ideas to the point of being late to the market or worse, launching something that is so safe that it lacks the sizzle to make the market take notice.

The Ugly: In conservative companies, this is where your best innovators go to die. They get so tired of trudging through fear and slow, overly conservative processes that they leave.

3. Revolutionary Innovation. (It seems technically impossible to do but, even if we can do it, there's no way of knowing ahead of time if anyone will buy it.)

This is the place where you search to find groundbreaking ideas for products, services and business models. PayPal, Uber, iRobot and Fitbit are examples. This is a bet that the market will move toward your idea and your company will have a first-mover advantage.

The Good: This is the most inspiring quadrant for your team. Companies that get this quadrant right literally transform industries and gain enormous gains in margin and market share.

The Bad: Investments in this quadrant rarely pay off and are impossible to forecast.

The Ugly: If you invest too heavily in this quadrant, you will lose the faith of the market and bankrupt your company.

4. Fast-Fail Innovation. (Technically easy for us to do, but we have no idea if anyone will buy it.)

This is the playground of the Idea Monkeys. Here, you must go to market and do your testing and learning there. It is the opportunistic segment of your development activity (ie., it's well within your wheelhouse of capabilities and core competencies, but far more experimental than usual.) Here you expect to fail quickly before succeeding with an offering that may literally be refined by your customers' feedback in the market.

The Fast-Fail quadrant is fairly low-risk—you don't spend much before you send the product out into the marketplace—and has an extremely high potential reward as customers express exactly how they want you to alter it. The direct response marketing industry has been using this strategy for decades, testing products like the Snuggie in small markets before rolling them out nationally once they show traction. You can do the same.

The Good: A great outlet for your imaginative, entrepreneurial thinkers. Low risk and low cost with potential high returns.

The Bad: This quadrant can be a distraction. Over investment here often signals a lack of discipline or an inability to gather insights. Large innovation returns depend on large market needs.

The Ugly: Entrepreneurs on average are out of business in fewer than three years because they over invest in this strategy. They run out of time and money because they are focused on too many ideas at once.

So what should your portfolio look like? In more aggressive industries—that is, industries such as consumer electronics that live and die on new products—your innovation portfolio development model might see a higher balance of effort in the upper right side of the diagram and less on the left. In more conservative industries, it's vice versa. Regardless of the industry, the right balance can yield billions in results.

A Hidden Benefit

The nice thing about approaching innovation this way is it reduced the subjective "whichever way the wind blows" process of deciding where to invest the actionable and strategic no-brainer. You have your innovation asset allocation model and you divide the money up accordingly. It reduces the stress at budget time by getting everyone thinking concurrently about how to set priorities. It allows your teams to stay focused on generating the right ideas and then implementing vs. the hamster-wheel scenario of repeatedly guessing at the "How much should we spend?" question.

And there is an even more important benefit: a balanced portfolio reflects a culture that knows how to create seeds of ideas and grow them. Show me a balanced portfolio and I'll show you a culture that can innovate again and again.

I’m the founder and CEO of Maddock Douglas, an insights-driven growth consultancy that helps leading corporations invent and launch new products, services and business models. I call myself an Idea Monkey because I love to solve problems with disruptive ideas. This passion ...